Some, maybe. But they weren’t part of the real Cayman family anyway. And they won’t be homeless: Either another FATCA partner jurisdiction will adopt them or, as a last resort, Uncle Sam will.
Cayman has made a courageous and pragmatic decision in its draft FATCA intergovernmental agreement (IGA) Guidance Notes: The IGA will apply only to trusts whose trustee is “incorporated, registered or licensed” in the Cayman Islands. Therefore, the IGA will not cover every trust governed by Cayman law. This departs from the plain language of the IGA, which applies to all trusts “organized under the laws of” the Cayman Islands. It is a departure, however, warranted by practical realities.
The Cayman IGA, like all country-specific IGAs, is based on the Model IGAs published by the U.S. Treasury Department. The Model IGAs give countries a choice: Their IGA can cover either financial institutions (FIs) “resident in” the country or FIs “organized under” the laws of the country. The term “resident in” is not defined in the IGAs. It is governed by the local tax-law definition of that phrase, if any. If a country doesn’t have a concept of tax residence, it will naturally avoid the “[tax] resident in” test and choose the “organized under the laws of” test instead. Cayman did just that, as did the British Virgin Islands. One can expect the Bahamas and other jurisdictions to follow suit.
On its face, the “organized under the laws of” test seems to cover trusts constituted under and governed by Cayman law regardless of where the trustee is incorporated, registered, or licensed. True enough, trusts aren’t organizations so aren’t literally “organized” under any law. But trusts are “entities” for FATCA purposes. Arguably, therefore, trusts should be treated for IGA purposes as “organized” under the law that governs them.
Imagine, though, what this would mean for the Cayman Islands. There are thousands, probably tens of thousands or more, of trusts governed by Cayman law with no other connection to the Cayman Islands: The settlor, the beneficiaries, and the assets are all offshore, and the trustee is not incorporated, registered, or licensed in the Cayman Islands and has no people or operations in Cayman.
Why is this? Cayman’s favorable trust law is reason enough for offshore trustees to choose Cayman law to govern their trusts. In addition, one of the biggest trust company locations worldwide, Switzerland, doesn’t have a trust law of its own. Therefore, every Swiss trust company, and there are lots of them1, must choose the law of one or more other jurisdictions to govern its trusts. Naturally, Cayman law is at or near the top of the list. And it’s not just Swiss trust companies that have Cayman-law trusts in their portfolios – Cayman is a popular jurisdiction for trusts worldwide.
If every trust governed by Cayman law were covered by the Cayman IGA, the Cayman Islands government could be overwhelmed with annual FATCA reports. Every trust governed by the Caymans IGA that is a ‘reporting FI’ must file a report every year with the Cayman Islands Tax Information Authority (TIA). This is true even if the trust has no ‘reportable accounts,’ i.e., no U.S. persons associated with the trust.2
The Cayman Islands doesn’t have any real interest in receiving FATCA reports from non-Cayman trustees about trusts that have no Cayman connection other than governing law. Why should the Cayman Islands be responsible for shepherding and passing to the IRS information about a trust administered in some far off land by a non-Caymans trustee just because the parties chose Cayman as the governing law? Therefore, the Cayman Islands had every reason to limit the coverage of its IGA to trusts that have a truly tangible local connection.
How has Cayman accomplished this feat, given the “organized under the laws of” test in its IGA? Very deftly. The Cayman Guidance Notes simply define its way around the problem. Under section 2.2 of the Notes, a trust is “organized under the laws of” the Cayman Islands only if “any of the trustees are incorporated, registered or licensed in the Cayman Islands.” Hey presto! And fair enough: It is these trusts, and these trusts alone, that Cayman has a real stake in. From a pragmatic point of view, Cayman has made absolutely the right decision.
The workaround definitely takes some liberty with the actual wording of its IGA. Is it really accurate to say that a trust is “organized under” Cayman law not when the trust itself is constituted under and governed by Cayman law but when its trustee is incorporated, registered or licensed in the Cayman Islands? A rose by any other name . . . .
Nevertheless, Cayman had little choice if it was to reasonably circumscribe the coverage of its IGA with respect to trusts. Besides, the IGAs allow partner jurisdictions to define terms under local law that are not defined in the IGA. “Organized under the laws of” is not defined in the IGAs so may be defined under local law. On the other hand, Guidance Notes, being generally non-binding, aren’t really local law as such. Plus, it’s one thing to define a term and another to significantly change its natural meaning. However, offshore trustees shouldn’t complain: Do they really have the right to expect the Cayman government to receive their trusts’ FATCA reports and pass U.S. person information along to the IRS simply because the trustees chose Cayman law to govern their trusts?
What happens to these Cayman-law trusts that Cayman has, understandably, declined responsibility for under FATCA? They will either be covered by another IGA or, if not, they will be governed by the U.S. FATCA regulations.
As mentioned, depending on the specific language chosen, IGAs cover FIs either “resident in” or “organized under the laws of” the particular jurisdiction. In a country that uses the “resident in” test, the local-law definition of tax residence determines whether a Cayman law trust is covered by the IGA.
For example, the Crown Dependencies (CDs) IGAs (with Guernsey, Jersey, and the Isle of Man) and the U.K. IGA all use the “resident in” language. Under both the CDs’ joint FATCA Guidance Notes and the U.K.’s FATCA Guidance Notes, a trust with a corporate trustee is “resident in” the relevant jurisdiction if the trustee is incorporated in or managed and controlled in the jurisdiction. Thus, a Cayman-law trust with, a Guernsey, Jersey, Isle of Man, or U.K. trust company as trustee is covered by the trustee’s home country’s IGA.
In contrast, Switzerland, like the Cayman Islands, has chosen the “organized under the laws of” test in its IGA. Unlike the Cayman Islands, however, Switzerland has not issued FATCA Guidance Notes and has not defined what “organized under the laws of” means. Not yet anyway. Unless and until it does, Switzerland will have exactly the opposite problem as Cayman: Too few trusts (actually, none) will be governed by the Swiss IGA because no trusts are “organized under” Swiss law if that phrase is taken to mean the law under which the trust is constituted and by which it is governed.
In my view, Switzerland should do precisely what Cayman has done and define “organized under the laws of” pragmatically. Switzerland would not even have to come up with a new definition. Swiss law already defines a trust’s “domicile” as being where a trust has its “registered office,” which in turn is defined as the place where the trust is managed.3 Switzerland should define “organized under the laws of” to mean where the trust “domiciled” as the latter phrase is defined in the foregoing law. In other words, Switzerland should do precisely what its IGA gives it the right to do – define a term not otherwise defined in that agreement.
As a policy matter, trusts administered by a trust company should be governed by the IGA of the trust company’s home jurisdiction. I expect other traditional trust jurisdictions will follow Cayman’s lead in this regard. For now at least, however, no one has boldly gone where Cayman has dared to go.
If Switzerland does not interpret its IGA as recommended above, a Cayman-law trust with a Swiss trust company as trustee would be governed by neither Cayman nor the Swiss IGA. However, it would not be without a FATCA home. “Benevolent” Uncle Sam, with his voluminous and byzantine FATCA regulations, welcomes with open arms any trust not covered by an IGA. As it turns out, although some jurisdictions may turn their backs on some trusts, no trust in the world is completely unwanted or truly orphaned. FATCA loves everyone.
- Estimates range from 500 to 900.
- The draft Caymans IGA Guidance Notes (section 17.3) require Reporting FIs to file so-called “nil” returns. Note, though, that trusts that qualify for one of the Non-Reporting FI statuses (e.g. Trustee-Documented Trusts) don’t have to file nil reports or any reports at all.
- Swiss Federal Act on Private International Law (Art. 21, subsections 1 and 3).